Outsourcing: Fewer Deals for Bigger Players

As corporate space users reduce the number of outsourcing firms they use, the competition has intensified among service providers vying for huge global contracts worth millions of dollars. In this high-stakes game, only the outsourcing firms with high-tech platforms and global networks can compete.

“The whole idea of bundling services to a single provider is a huge trend,” says Thom Bogle, the managing director of corporate real estate services for New York-based Ernst & Young Real Estate Advisory Services, which advises corporate space users on whether to seek outsourcing services. Bogle is the author of “Corporate Real Estate Outsourcing: 10 Years Later,” a study released in the fall of 2002. “There is really a tremendous amount of extra value that the providers are giving to clients that is based around this concept,”he says.

Companies with diverse global portfolios are turning to outsourcing firms to shave millions in dollars per year from their real estate operating budgets. For instance, Benton Harbor, Mich.-based Whirlpool Corp. has reduced payroll and operating expenses by about $20 million per year by outsourcing its portfolio.

And the stakes are equally high for the service providers. An outsourcing firm that wins a contract to manage a 50 million sq. ft. portfolio can earn $7.5 million per year on the facilities management portion of the contract alone, since outsourcing firms typically charge about 10 cents to 15 cents per sq. ft. for that service, says Bogle.

Firms also earn extra money for separate items such as construction management, which pays outsourcers 3% to 5% of a project's overall cost, and lease transactions, which generate fees equal to about 2% to 3% of the total value of a lease.

“Firms like ours pull out all the stops to compete for these global contracts,” says Richard McBlaine, president of strategic consulting at Chicago-based Jones Lang LaSalle. “What space users are really looking for is a firm that can turn on a dime, make the portfolio more flexible and allow them to roll out new programs quicker.”

One-Stop Shopping

When space users began outsourcing their real estate management in the early 1990s, they typically signed contracts with several regional providers, Bogle says. Now companies are consolidating the number of providers they use, sometimes down to a single outsourcing firm that handles all of their real estate functions — property transactions, facilities management, lease administration and construction services.

“The reality is that the scope of work has expanded dramatically,” says Derrick Mashore, executive managing director for global corporate services at New York-based Cushman & Wakefield. “There was a time when companies were going to pick five or six outsourcing firms. These days, there's more at stake. There's a greater sense of urgency.”

To narrow the field of candidates for an outsourcing contract, space users typically conduct a formal request for proposals (RFP) process. Outsourcing executives say corporate clients are putting more pressure on providers to show how they will cut real estate costs. The dueling firms use this time to showcase their strengths, including technology platforms, extent of their networks and the skills of their employees. The length of a contract typically ranges from two to five years.

“We've built our company to be able to handle these more sophisticated requirements,” says Mashore. “The competition is fierce, but that's what our company was designed to do.”

Indeed, only the top outsourcing companies have the resources to handle the comprehensive services corporate clients are demanding. “These challenges make it very hard for small regional firms to compete,” McBlaine says. “It used to be that there was room for them.”

When an outsourcing firm is one of several providers hired to handle a firm's outsourcing needs, it has extra incentive to perform well because the company is likely to consolidate the number of providers further down the road. Scorecard systems often are used to rate virtually every service provided by an outsourcing firm, which only adds to the pressure. But the reward for a job well done is the opportunity to become a company's sole provider after the existing contracts expire.

For instance, Palo Alto, Calif.-based Hewlett-Packard Co. initially hired a dozen firms when it began outsourcing its portfolio in the early 1990s, but eventually selected Cushman & Wakefield as its exclusive provider in 2001 (please see sidebar on page 34).

Although space users are consolidating outsourcing contracts among fewer providers, the total amount of real estate work being outsourced is on the rise, according to the Ernst & Young study. In a poll of about 80 executives, 90% of space users said they plan to either maintain or increase their current levels of outsourcing.

Approximately 70% of respondents in the Ernst & Young survey plan to retain the current level of outsourcing services for project management and facilities management, and about 25% expect to increase the level of outsourcing.

The economic downturn has boosted business for outsourcing firms as companies strive to improve the bottom line by reducing real estate costs. “Since 1999 through today, the trend has once again picked up steam,” states the Ernst & Young study. “Outsourcing is a proven and viable option to reduce expenses, particularly when corporate revenues are flat or decreasing.”

A Moving Target

United Technologies Corp. has raised its cost-cutting goals since it began consolidating the management of its 102 million sq. ft. global real estate portfolio five years ago. The Farmington, Conn.-based company, which manufactures products for the aerospace and construction industries, formerly divided outsourcing functions among multiple regional providers.

Five years ago, the company selected Stamford, Conn.-based United Systems Integrators Corp. to manage its 58 million sq. ft. portfolio in North America. In December 2002, the company picked New York-based Grubb & Ellis and its London-based affiliate, Knight Frank, to oversee its 20 million sq. ft. portfolio in Europe, the Middle East, Africa and Russia, and at the same time signed up Jones Lang LaSalle and United Systems to manage its 24 million sq. ft. portfolio in the Asia-Pacific, Central America and Latin America.

“All of our divisions were handling this real estate on an individual basis, so we were not leveraging any size capability we had,” says Ron Zappile, the president of United Technologies Realty Inc., which is in charge of real estate operations for its parent company. “And we weren't taking advantage of the ability to develop relationships with major landlords.”

When Zappile became president of United Technologies Realty two years ago, he was assigned the task of reducing real estate expenses by $50 million over a three-year span from 2001 to 2003. After real estate costs were reduced by $47 million in the first two years alone, the savings goal was increased to $20 million for 2003.

He says the formation of standard procedures for space management and work orders, which began when United Systems was hired five years ago, has helped the company cut costs. Outsourcing providers are achieving the bulk of the company's real estate savings by consolidating offices, disposing of unneeded properties and subleasing empty space. In the past two years, the company has completed 25 office consolidations to reduce its space by 13%. Seven other office consolidations are under way.

High-Tech Platforms

With a 50 million sq. ft. real estate portfolio spread across 13 countries, Whirlpool needed a centralized database to manage its assets more efficiently. In March 2002, Whirlpool and Jones Lang LaSalle developed an Internet-based portfolio management system that provides employees access to everything from property listings and financial reports to market data and project status reports. “The Internet system saves us time, saves us dollars and provides a more consistent result,” says Carl Nedderman, director of corporate real estate at Whirlpool. “And outsourcing allows the real estate department to spend more time on strategic issues because we now use Jones Lang LaSalle to work the transactions and provide construction management.”

The appliance manufacturer picked Jones Lang LaSalle as its primary real estate services provider after working with as many as eight outsourcing firms over the past five years. In June 2002, Jones Lang LaSalle, which had already been handling transaction services for Whirlpool, also was selected to oversee construction projects as well as facilities management services for 1.1 million sq. ft. of space, including its headquarters in Benton Harbor, Mich., and nearby offices. By outsourcing facilities management services, initially with CB Richard Ellis, Whirlpool was able to eliminate all 66 positions from its facilities group, saving $1.9 million over the past five years.

The system has slashed the time it takes to complete property purchases, construction projects and the disposition of assets. Whirlpool estimates that the Internet system combined with the outsourcing of various real estate functions helped it reduce transaction costs by $15 million in 2001 and produced overall savings of $100 million over a five-year period.

Jones Lang LaSalle has set up Internet-based systems for more than 100 of its clients. Many other real estate service providers have made Web-based systems the centerpiece of their management systems. Cushman & Wakefield offers the Business Integration Group (BIG) for facilities and property management, and Colliers Turley Martin Tucker provides its REflex platform for transaction management, portfolio administration, construction services and facilities management. CB Richard Ellis uses the Maxima system for facilities management and Bricsnet FM for project management.

When Washington Mutual, a Seattle-based financial services company, picked Los Angeles-based CB Richard Ellis to oversee its construction projects in 2001, its chief goal was to complete projects faster. CB Richard Ellis had already been handling property management for the company when it took over construction management.

The Bricsnet FM program will allow Washington Mutual to track budgets, distribute RFPs and receive bids over the Internet. “The cycle time for getting projects funded, budgeted and initiated is going to dramatically collapse,” says Georgia Perkey, senior managing director of the Strategic Technology Solutions Group at CB Richard Ellis. By completing projects more quickly, CB Richard Ellis expects to cut costs for the company, but Perkey says the contract is too new to site specific cost savings.

The effort to save clients money doesn't stop with Web-based portfolio management systems. St. Louis-based Colliers Turley Martin Tucker uses the GE Power Service program to provide clients discounted prices for carpeting, roofing materials, appliances and various equipment purchases.“Cost concerns never go away,” says Brandon Mann, senior vice president of the Partner Program, the outsourcing division of Colliers Turley Martin Tucker. “I think it's probably at the forefront today. Three years ago, when the economy was just flying along, cost was not the top priority.”

Managing a Really Big Portfolio

With outsourcing on the rise, it's no surprise that the country's biggest user of real estate — the U.S. Postal Service — has expanded the scope of outsourcing services for its gigantic 270 million sq. ft. portfolio.

Hightstown, N.J.-based NAI Direct was selected by the Postal Service six years ago to help it dispose of obsolete facilities. Since then, the contract has been expanded to include site-acquisition services and consulting work for redevelopment projects. The Postal Service either owns or leases 25,000 facilities across the country, so squeezing the most value out of each site can translate into big savings across the entire portfolio.

For example, NAI helped the Postal Service reduce rental expenses by finding a smaller facility in central New Jersey to replace a 315,000 sq. ft. center in South River, N.J., that was too large for its needs. But the Postal Service still had four years remaining on its lease, so NAI had to locate a tenant to sublease the building. After NAI found a retail tenant to occupy the 315,000 sq. ft. building, the Postal Service moved into a 200,000 sq. ft. facility in Monroe Township, N.J., in August 2002. The company will save approximately $500,000 per year by occupying the smaller building.

Jeffrey Finn, president and COO of NAI, says his firm is able to obtain the best possible lease deals for the Postal Service because the firm has brokerage offices across the country, in both major and tertiary markets. That's an important factor for the Postal Service, which is located in nearly every community in the country. “We have 270 offices around the world,” Finn says. “The fact that we're very close to the markets gives us a high degree of contact with all of the local and global players, and a knowledge of the value of the assets in those markets.”

Since NAI has worked with the Postal Service on dispositions, Finn says the cycle time has been reduced from an average of two years to about six months.

As more space users such as the Postal Service turn to outsourcing firms to manage large real estate holdings, Cushman & Wakefield's Mashore expects the consolidation trend to continue. “There is an increasing reliance on the outside service provider,” he says. “We increasingly have become a partner to these companies, and the rationale for having five or six firms provide that service is diminishing.”

Steve Webb is an Atlanta-based writer.

Quick Reflexes Required

As strategies change, outsourcing firms need to adjust their priorities.

The strategic goals of a corporate space user can change dramatically over the course of an outsourcing contract. When that happens, outsourcing firms will be called upon to tailor their services to meet a client's needs.

New York-based Cushman & Wakefield knows what that's like. Executives at the company were euphoric when Palo Alto, Calif.-based Hewlett-Packard Co., the world's second-largest computer manufacturer, selected the firm as its exclusive real estate services provider in the Americas in 2001. The firm expected to focus its energies on helping Hewlett-Packard expand its portfolio of manufacturing facilities, especially in light of its plans to acquire Compaq Computer Corp.

However, layoffs by Corporate America over the past two years caused a falloff in demand for its products and a corresponding decline in revenues. “The entire focus is on disposition and reducing costs,” says Derrick Mashore, executive managing director for global corporate services at Cushman & Wakefield. “We are helping them out of leases, selling property and helping them look at ways they can increase capital instead of having it tied up in real estate.”

In February, Hewlett-Packard, which has a 40 million sq. ft. real estate portfolio in the U.S., posted a profit of $33 million in the fiscal first quarter after sustaining a $68 million loss in the fourth quarter of 2002. Analysts credited cost-cutting moves across the company's business groups with helping the company improve its financial performance. Cushman & Wakefield has disposed of approximately 2 million sq. ft. of office and manufacturing space for the company in the past two years.

Mashore says Cushman & Wakefield's role in helping the company cut costs is part of a growing trend in which outsourcing firms are being asked to become strategic business partners with their clients. “The real estate department has certainly made a contribution to the reduction in costs at Hewlett-Packard,” says Mashore. “We look forward to their quarterly report because we know we're a part of their comeback.” — Steve Webb